This copy is for your personal, non-commercial use only. To order presentation-ready copies for distribution to your colleagues, clients or customers, click the "Reprints" link at the top of any article.

Benchmark Rates in Question

Probe into rigging of Libor expands to other rates, spreads across Europe and to the U.S. and Singapore.

The probe of Libor manipulation is proving to be the tip of the iceberg as inquiries into assets from derivatives to foreign exchange show that if there’s a chance to rig benchmark rates in world markets, someone is usually willing to try.

Singapore’s monetary authority last week censured 20 banks for attempting to fix interest rate levels in the island state and ordered them to set aside as much as $9.6 billion. Britain’s markets regulator is looking into the $4.7 trillion-a-day currency market after Bloomberg News reported that traders have manipulated key rates for more than a decade, citing five dealers.

“It’s happened time and again: All of these markets have been influenced by major market-makers, which is a polite way of saying they’ve been rigged,” Charles Geisst, a finance professor at Manhattan College in Riverdale, New York, said in a telephone interview.

While the indexes under scrutiny are little known to the public, their influence extends to trillions of dollars in securities and derivatives. Barclays Plc, UBS AG, and Royal Bank of Scotland Group Plc have been fined about $2.5 billion in the past year for distorting the London interbank offered rate (Libor), which is tied to $300 trillion worth of securities. Regulators are also probing ISDAfix, a measure used in the $370 trillion interest-rate swaps market, as well as how some oil products prices are set.

Inquiries are broadening into the transparency of benchmarks whose levels can be determined by the same people whose income they affect. In the case of Libor, traders who stood to profit worked with bank employees responsible for submissions for the benchmark to rig the price, according to the U.K. Financial Services Authority.

The International Organization of Securities Commissions, or Iosco, a Madrid-based group that harmonizes market rules, identified a set of benchmarks in a January report that could impair the global economy if they were found to be prone to manipulation. Along with Libor, ISDAfix, and energy market prices, Iosco flagged measures used in markets for overnight lending and repurchases, equities, bonds, and alternative investments such as hedge funds.

Iosco may propose final guidelines as soon as next month for improving transparency and oversight of benchmarks, including the WM/Reuters rates used in the foreign-exchange market, the subject of last week’s Bloomberg story, people familiar with the matter who asked not to be named because the talks aren’t finalized said last week.

Taking Risks

“Many bankers continue to behave as they did prior to the financial crisis,” said Mark Williams, a finance professor at Boston University who wrote “Uncontrolled Risk,” a book on the rise and collapse of Lehman Brothers Holdings Inc. “Banks and their regulators have to cap bank risk-taking behavior before meaningful change can occur. This is a global problem and not isolated to a few big banks. It’s very troubling.”

Distortions are being found in areas of Wall Street that are beyond the scope of initiatives to rein in excesses such as those that led to the 2008 financial crisis. Spot foreign-exchange transactions, for example, fall outside the European Union’s Markets in Financial Instruments Directive, or Mifid, which requires dealers take all reasonable steps to protect client interests. They’re also exempt from the Dodd-Frank Act, which seeks to regulate derivatives in the U.S.

The U.K. Financial Conduct Authority, which oversees markets and prosecutes financial crime, is looking into possible manipulation in foreign exchange after being contacted by a money manager in March. The currency market, the biggest in the financial system, is one of the least regulated because transactions occur away from exchanges.

Distortions in foreign exchange markets have the potential to affect the buying power of consumers, while manipulation of interest rate benchmarks could raise the price of homes, cars, or any product purchased with borrowed money.

In the U.S., the Commodity Futures Trading Commission (CFTC) is reading through 1 million e-mails and instant messages from traders at the world’s largest 15 banks and broker ICAP Plc for evidence in the ISDAfix rate, which is used to value interest-rate swaps trades.

ICAP Chief Executive Officer Michael Spencer said last month that the company’s investigations have turned up no wrongdoing.

The $633 trillion over-the-counter derivatives market, which complicated efforts to resolve the financial crisis, is being regulated for the first time in its 30-year history by the Dodd-Frank Act in the U.S. and European Commission rules.

Libor Probe

The probes into financial benchmarks began with Libor, which helps set rates on securities, loans, and even home mortgages. While UBS, Royal Bank of Scotland, and Barclays have paid fines, that investigation by U.S. and U.K. regulators is ongoing.

“Regulators are frequently reactive; they are busy with business as usual and do not go looking for possible violations unless something happens, such as the press calling attention,” said Jay Ritter, a finance professor at the University of Florida. “Once an issue gets raised in the court of public opinion, however, then regulators are alert for related activities that they otherwise wouldn’t be paying attention to.”

The European Commission said in May it was investigating Royal Dutch Shell Plc, BP Plc, and Statoil ASA, three of Europe’s biggest oil explorers, over potential manipulation of Brent Crude, which helps set prices in the $3.4 trillion-a-year global oil market. Neste Oil Oyj, Finland’s only refiner, was asked to provide information regarding the probe.

Platts, a data-pricing service owned by McGraw Hill Financial Inc., also is a target in the inquiry. The probe, which extends to undisclosed crude-derived products and biofuels, shows how some energy markets lack the transparency of stocks and U.S. corporate bonds. Royal Dutch, BP, Statoil, Neste, and Platts have said they are cooperating. Neste said it’s not under investigation.

Last week, the Monetary Authority of Singapore said ING Groep NV, Royal Bank of Scotland, and UBS were among 20 banks at which 133 traders tried to manipulate the Singapore interbank offered rate, swap offered rates, and currency benchmarks in the city-state, after reviewing the period from 2007 to 2011. The regulator will make rigging key rates a criminal offense and bring supervision under its oversight.

Benchmarks such as Sibor and Libor are calculated by asking firms to estimate how much it would cost to borrow from each other for different periods and in different currencies. ISDAfix is created in much the same way, by averaging bank submissions rather that actual trade data.

Singapore will be among the first countries to start using actual transactions rather than the survey of estimates in calculating benchmark rates.

“For the public on the outside who keeps reading about this stuff, it can be pretty unsettling,” said Manhattan College’s Geisst. “Every time something pops up it adds to the public disillusionment, which is pretty high right now.”

Treasury & Risk

Treasury & Risk is an online publication and robust website designed to meet the information needs of finance, treasury, and risk management professionals. Our editorial content, delivered through multiple interactive channels, mixes strategic insights from thought leaders with in-depth analysis of best practices, original research projects, and case studies with corporate innovators.